Open interest is one technical tool traders can use in combination with price action, fundamental, or sentiment indicators to find opportunities to go long or short, as well as to gauge when a trend may be ending. This guide will explain what open interest is and illustrate how you can use this technical tool to find trading setups.
Open Interest Explained
Open interest (or OI for short) is defined as the total number of open derivative contracts (such as perpetual futures) that have not been settled yet, calculated as the sum of contracts that have been bought and sold. OI differs from trading volume, as the latter refers to the quantity of contracts traded during a particular period.
Traders can use OI to gauge interest in a particular market or an asset’s trend:
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When OI is rising, it tells us that more traders are interested in a particular market, and there’s new money flowing in to go long or short.
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When OI is falling, it tells us that traders are becoming less interested in a particular market and money is flowing out, i.e., longs or shorts are being closed.
By combining OI with trend analysis, we can make some generalizations that give us an idea of how to trade a particular market (illustrated in the table below).
In the following sections, we’ll show you several techniques to track OI and how you can apply it to your trading.
Coinalyze
Coinalyze is a platform for derivatives data displaying OI data and its 24-hour change for the top cryptocurrencies.
Traders should pay attention to assets with the greatest OI changes to find opportunities in the market, as it indicates upward momentum is likely to continue. On the other hand, a large drop in OI tells us that momentum is stalling, indicating that you should consider exiting any long positions you hold or look to go short.
The screenshot below shows that the 24-hour change in open interest is greatest for MKR, ATA, IMX, OCEAN and PERP. That means traders are opening a lot of new positions in these cryptocurrencies.
You can order the assets by the largest or smallest change in OI to screen the market for opportunities. For instance, if there’s an increase in OI and the asset is trending up, you may want to look for buying opportunities. On the other hand, if a large percentage increase in OI for an asset that’s in a downtrend, then you may want to monitor any opportunities to go short.
Coinglass
Coinglass is similar to Coinalyze but shows the breakdown of OI across different exchanges, while also displaying the 1-hour and 4-hour changes as well as the 24-hour change.
Since Coinglass offers more granular timeframes, this allows traders to spot potential opportunities quicker as compared to using Coinalyze. However, the drawback is that each asset is displayed on a different page, so you cannot make direct comparisons like you can with Coinalyze.
There’s also a chart for each asset on Coinglass that shows the price and OI across different exchanges. An example for MASK is shown below. Notice how the price and OI tend to move in sync with each other.
OIAlertBot
The OIAlertBot on Twitter, created by Crypto Notify, can help you spot opportunities as this account tweets out large changes in OI across a variety of exchanges. Enable notifications for this account to be alerted whenever the bot tweets.
What we want to see are large OI changes, which are likely to be followed by large price swings. Although a jump in OI will not tell you which direction the price will go, you can look at the technicals (such as the price trend or volume) and/or fundamentals (such as a major announcement or upgrade that’s imminent) to decide on the direction.
Example 1: Trading OP using OIAlertBot
An example is shown in the screenshot below for OP. Note that on February 22nd, there were two instances where OI on Binance increased massively by $3 million and $4 million in the space of a few hours. Because of the large jump in new positions being opened by traders, these serve as signals to long OP (as the token saw a change in trend that morning and established an upward trend).
The OP price rallied shortly after these alerts and the token reached highs above $3. However, the day after some positive fundamental news for Optimism (Coinbase’s Base announcement) on February 24th, there was a large decrease in OI of almost $7 million! This is an almost identical amount to the two large increases seen two days earlier.
Consequently, the closure of $7 million worth of positions in OP indicates that traders were taking profits, so it was a good time to cut any long positions you had or start thinking about positioning short. As the chart above shows, following these signals would have netted you a gain of approximately 14%-22% depending on where you got in.
It’s also important to keep in mind that a lot of other OI alerts were tweeted during that time period, and we’ve just selected the largest ones to illustrate how to use this tool. Greater OI increases or decreases are more significant since there are more positions being closed and can be interpreted as stronger bets placed by traders on the price moving higher or lower.
We can apply a simple rule of thumb for large-cap tokens like OP, where any alerts that are below $1 million can be ignored. This way, you’re only concentrating on and acting upon the largest OI alerts to ‘follow the whales’.
Example 2: Trading YFI using OIAlertBot
Here’s another example for Yearn’s YFI token. On February 9th, the OIAlertBot tweeted out a large decrease in OI for YFI when there were bearish market conditions and the price fell around $1000 in the following days.
However, several weeks later on February 21st, the OIAlertBot tweeted about an OI change in YFI again. But this time it was positive, which suggested strong buying pressure since the price had rebounded and entered an uptrend once again.
From that moment on until March 3rd, the OIAlertBot only ever tweeted about OI increases for YFI, which would be interpreted as bullish since the asset was in an uptrend. However, on March 3rd, the bot alerted us to the first OI decrease since February 9th, which would’ve warned us that the uptrend may end and that traders are taking profits.
You could take a similar approach of scanning just a few assets, following the history of OI changes, then going long when OIAlertBot tweets a large OI increase after some time. The long positions can then be closed when the OIAlertBot tweets a large OI decrease.
The astute reader may notice that for the OP and YFI examples explained above, both projects had major announcements that followed the rapid increase in OI: Coinbase’s Base announcement on February 23rd for OP, and Yearn’s yETH announcement on February 21st. Spotting large OI increases may help you position ahead of major announcements, while you can wait for a large OI decrease to exit the position.
Summary
The tools outlined above can help traders to scan the markets and select assets that have the greatest potential for large price movements. By studying OI changes, it can help traders determine the strength of a trend or when a trend reversal may take place.
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As more people start buying into an asset, the OI and price will rise.
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When traders are cutting their positions after a large price rise, the OI decreases and points to weakness in the market.
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On the other hand, if OI increases during a strong downtrend, then it could indicate further declines in the asset’s price.
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As OI settles after a large drop, then it’s a good time to look for indications that the trend will reverse and find opportunities to go long.
Although, as with any technical indicator, traders should always seek confirmation using other analyses or tools and avoid trading purely on OI signals alone.